Financial sector reflects the nuances of the Thatcher inheritance

By Howard Davies /

Thu, Apr 18, 2013 - Page 9

In the US, for people of a certain age, former British prime minister Margaret Thatcher was a superstar, and Americans have been surprised at the sharply divided views on display in the Britain that she governed for 11 years. However, Britons were not astonished. Like former British prime minister Tony Blair, Thatcher has long been a British product with more appeal in export markets than at home.

All aspects of her legacy are earnestly disputed. Was she prescient about the problems of European monetary union, or did she leave Britain isolated on the fringes of the continent?

Did she create a new economic dynamism, or did she leave the UK bitterly divided, more unequal, and less cohesive than before? Did she destroy the power of vested interests and create a genuine meritocracy, or did she entrench bankers and financiers as the new elite, with disastrous consequences?

Indeed, one issue that has come under the microscope is Thatcher’s reforms of the City of London in the late 1980s. In 1986, her government was instrumental in what is known colloquially as the “Big Bang.” Technically, the main change was to end “single capacity,” whereby a stock trader could be a principal or an agent, but not both.

Before 1986, there were brokers, acting for clients, and jobbers, making a market, and never the twain could meet. This system had been abandoned elsewhere, and the reform opened London to new types of institutions, especially the major US investment banks.

The first and most visible consequence was the demise of the long lunch. Beginning with a gin and tonic just after noon, and ending with a Napoleon brandy at three o’clock, lunch prior to the Big Bang was often the most arduous part of a stockbroker’s day. That cozy culture ended soon after the thrusting, brash Americans, who worked even over breakfast, hit town.

However, some believe that there were downsides, too. Philip Augar, the author of The Death of Gentlemanly Capitalism, argues that “Good characteristics of the City were thrown out along with the bad,” and that Thatcher’s reforms “put us on a helter-skelter course towards the financial crisis.”

How justified is this charge? Can we really trace the roots of today’s malaise back to the 1980s? Was the Iron Lady an author of the world’s current misfortunes?

Nigel Lawson, Thatcher’s chancellor of the exchequer at the time, denies it. (Full disclosure: I was an adviser to Lawson in the 1980s). He points out that the reforms were accompanied by new regulation. The Financial Services Act of 1986 put an end to the pure self-regulation regime. Financial interests opposed it vigorously at the time, viewing it as the thin end of a dangerous wedge, though they could not have guessed just how thick that wedge would eventually become.

It is also difficult to trace back to the 1980s the origins of the credit explosion and the proliferation of exotic and poorly understood financial instruments that lay at the heart of the 2007-2008 crisis.

The most dangerous trends, including the upsurge of global imbalances and the dramatic financialization of the economy, accelerated dangerously from about 2004 onward.

Thatcher herself was not an enthusiast for credit, once famously saying: “I don’t believe in credit cards.” Indeed, she espoused a rigorous philosophy about borrowing: “The secret of happiness is to live within your income and pay your bills on time.”

However, perhaps there is a deeper level on which we can see some connections between Thatcherism and the crisis. Her mantra, “You can’t buck the market,” did contribute to a mindset that led governments and central banks to be reluctant to question unsustainable market trends.

Thatcher was referring specifically to the dangers of fixed exchange rates, and can certainly not be counted as one of the principal architects of the so-called “efficient markets hypothesis.”

However, she was a strong believer in the expansion of private markets, and was instinctively suspicious of government intervention. As the late economist and European central banker Tommaso Padoa-Schioppa once put it, Thatcher “shifted the line dividing markets from government, enlarging the territory of the former at the expense of the latter.”

Padoa-Schioppa regarded this as a factor contributing to the US and UK authorities’ reluctance to step in at the right time before the 2007-2008 crisis.

Thatcher was certainly no friend of central bankers. She remained, to the end, hostile to central-bank independence, regularly rejecting the advice of her chancellors to allow the Bank of England to control interest rates. She feared that independent central banks would serve the interests of their banking “clients,” rather than those of the economy as a whole.

She was especially hostile to what she saw as the excessive independence of the European Central Bank (ECB). In her last speech in parliament as prime minister, she attacked the ECB as an institution “accountable to no one,” and drew attention to the political implications of centralizing monetary policy, accurately forecasting the dangers of a “democratic deficit,” which now worries many in Europe, and not just in Cyprus or Portugal.

So, in the financial arena, as elsewhere, there is light and shade in the Thatcher inheritance.

Her Alan Greenspan-like belief in the self-correcting features of financial markets, and her reverence for the integrity of the price mechanism, do not look as well-founded today as they did in the 1980s. So, in that sense, she can be seen as an enabler of the market hubris that prevailed until 2007.

On the other hand, it is difficult to imagine that a Thatcher government would have run a loose fiscal policy in the 2000s. And it is equally unlikely that, had she had her way, the eurozone would be the camel — a horse designed by committee — that it is today.

Howard Davies, former chairman of Britain’s Financial Services Authority, deputy governor of the Bank of England and director of the London School of Economics, is a professor at Sciences Po in Paris.